Master thesis in knowledge-based entrepreneurship
Entrepreneurial behaviour after financing:
Angel investment, crowdfunding and ICOs
Adam Chasourakis and Thomas Lundgren
Supervisor: Astrid Heidemann Lassen and Ryan Rumble Course coordinator: Olof Zaring
Abstract
Entrepreneurial behaviour and traits are treated as concepts that have almost a static effect on choices and firm performance. The literature in the field of entrepreneurship suggests that such traits have a strong connection with success, performance and the business itself. A firm has different life cycle stages, with receiving its first external financing being of great
importance. Receiving external financing may have a big impact on the entrepreneur as a person, especially when young and inexperienced entrepreneurs are concerned, affecting psychological traits such as confidence, risk propensity, and more. This thesis examines and shows that entrepreneurial behaviour does change during the financing moment. Different types of financing (ICO, angel investing, crowdfunding), as well as the financing itself, were shown to` have an impact on the entrepreneurial behaviour. Thus, as several other studies suggest that entrepreneurial behaviour affects performance, the financing will have an impact on expected future performance.
Keywords: entrepreneurial behaviour, crowdfunding, initial coin offering, angel investors, confidence, risk propensity, conscientiousness, openness to experience
Foreword
The following text in the foreword section is a reflection on how the experience of writing our master thesis was.
To begin with, we want to describe the nature of our teamwork. We have worked together before in different projects during these two years in our program and have developed a functional way to collaborate. Although the norm is to divide the work in student’s projects, we have always found it more effective, efficient and even fun to work together on the same topics instead of dividing the work. Thus, since the first day we decided to work on our thesis together, we have been meeting every day in the university and did so until the very end.
The first two months of writing our thesis was difficult, we didn’t know exactly how to formulate our research questions, how to gather and analyse our data and in general how to approach the literature and methodology. Eventually, with the help of our supervisors, we managed to have a clearer picture on what we wanted to research and how to proceed.
We faced many challenges during those months of working on our thesis, but the main two challenges had to do with the literature review and the collection of our empirical data. In the very early stages of researching of the existing literature, we realised that there wasn’t any previous research on how behaviour and psychological traits are affected by financing. This was a both positive and negative surprise to us. Positive in the sense that we have identified a literature gap that we wanted to do our research upon and negative because we couldn’t find much previous research to back our research on. The second big challenge was finding our interviewees. We were looking for start-ups that had specific financing types and we had therefore to look outside Sweden as well. Including the fact that it took a lot of effort to find companies that fitted our criteria, it was also a challenge to come in contact with the founders and convince them to be part of our project.
Lastly, we want to mention what we have learned through this experience. We discussed about it and concluded that working on our thesis gave us a lot of tools and knowledge on how to conduct an academic research as well as how to effectively plan and structure a case that seems like a mountain of work in the beginning. We believe that this knowledge and experience will help us in the future to plan, execute and solve problems and situations that need effective and professional approach.
Acknowledgements
We would like to express our sincerest gratitude to the entrepreneurs that found the time and interest to participate in our research and provided us with valuable insights on the subject as well as the necessary empirical data for this research. Furthermore, we would like to thank our supervisors Astrid Heidemann Lassen and Ryan Rumble for their guidance and direction, especially during the beginning of this thesis when everything was unclear, with tension and scary. We would also like to thank Ph.D. student Ed Saiedi for a very fruitful and insightful discussion. Last but not least, we would like to thank Karin Lundgren for her assistance with proofreading the thesis.
Contents
1 Introduction ... 1
1.1 Background ... 1
2 Theory ... 3
2.1 Early stage financing ... 3
2.2 Early stage financing options ... 4
2.2.1 Angel Investors ... 4
2.2.2 Crowdfunding ... 6
2.2.3 Initial coin offerings ... 8
2.3 Motivations for chosen financing types ... 12
2.4 Other options for financing ... 14
2.5 Entrepreneurial behaviour ... 15
2.6 Performance ... 16
2.7 Literature Gap ... 17
2.8 Constructs ... 18
2.9 Summary ... 20
3 Methodology ... 22
3.1 Research questions ... 22
3.2 Research strategy ... 22
3.3 Research purpose... 23
3.4 Research Design ... 24
3.5 Collection of empirical data ... 24
3.6 Analysis of the empirical data ... 25
3.7 Quality of research ... 26
4 Results ... 28
4.1 CrowdAlbatross ... 29
4.2 CryptoTiger... 31
4.3 AngelShark ... 35
4.4 CrowdElephant ... 37
4.5 CryptoBear ... 40
4.6 AngelEagle ... 42
4.7 Interview response table ... 45
4.8 Summary of results ... 46
5 Analysis ... 49
5.1 Value Estimations ... 49
Categorisation ... 50
5.2 Hypotheses construction ... 50
5.3 Final hypotheses ... 50
5.3 Hypothesis model ... 53
6 Discussion ... 55
6.1 Limitations ... 57
7 Conclusions ... 59
8 Contribution ... 60
9 Sources ... 61
9.1 Appendix ... 65
9.1.1 Categories ... 65
9.1.2 Analytic induction process ... 65
9.1.3 Interview Guide ... 68
9.1.4 Contacting email ... 68
9.2 Tables and figures ... 69
1
1 Introduction 1.1 Background
Entrepreneurial behaviour is a well-established field within entrepreneurial theory; how entrepreneurial behaviour affects ventures as well as factors that affect entrepreneurial behaviour and as a result performance. Studies have been done to evaluate how different personal characteristics affect performance like openness to experience and conscientiousness (Zhao et al. 2010). There is however no literature on how entrepreneurial behaviour is
affected at the moment of financing, or other important moments in a firm's life cycle. Since obtaining financing changes the dynamics and the stage a firm goes through, it follows that it is probable that the entrepreneur’s feelings toward their respective firms changes. Financing could cause an entrepreneur to feel that goals are achieved, and good times are ahead - or that the obtained financing fosters a pressing need to perform in relation to new expectations.
Regardless of which behavioural changes occur, they can have significant implications for the future of the firm, based on existing theory on entrepreneurial behaviour and its effect on performance. In this thesis, a model for the entrepreneur’s behaviour is created based on the literature review and through analytic induction of the results. The aim is to examine how the change to entrepreneurial behaviour is affected at the moment of financing, which as a result affects performance, as shown in Figure 1. This means that while the choice of financing method is an expression of entrepreneurial behaviour, that choice is not the behaviour of study since the subsequent behavioural changes as a result of that choice cannot change the financing method once it has been chosen.
Figure 1: Entrepreneurial causation proposition
Further, financing is known to bring benefits to performance that are not connected to
entrepreneurial behaviour. For instance, buffer capital provides a host of performance related benefits not directly connected to entrepreneurial behaviour, like enabling capital intensive strategies and surviving periods of low performance. This behoves that effects to
performance from financing grounded in theory is accounted for as much as possible in the
Type of financing
Changes to entrepreneurial behaviour
Performance
2 analysis. There are also differences and similarities between the financing types that could lead to different behavioural outcomes.
Different financing sources have different implications and outcomes for both investors and entrepreneurs. This study focuses on three financing methods available to early stage firms.
These three are angel investors, crowdfunding (specifically focused on the equity type) and initial coin offerings (ICOs). Angel investors tend to bring important expertise into early stage startups, but their role as a guide can make them question the entrepreneur’s decisions, which can in the worst case break apart their relation (Collewaert, 2012). Crowdfunding and ICOs on the other hand are two new methods that emerged from the widespread use of Internet and the phenomenon of cryptocurrencies. The main aspect of these methods which differentiate them from angel investors is that they are funded by many investors rather than a few informal investors. ICOs are different from crowdfunds in that they are unbound by platforms and the investment structure is customizable, providing different incentives and implications in between different ICOs.
This thesis thus covers two interesting, coalescing topics: How is the entrepreneurial behaviour affected at the moment of financing, and do different financing types with their different implications affect entrepreneurs differently? These questions are delved into through a qualitative study with six interviews, with two interviews each financing method.
The results from these studies are then evaluated through analytic induction. As there is limited previous research done on how the entrepreneurial behaviour is affected at the financing moment, this thesis provides insights into a new field of research into entrepreneurial behaviour.
3
2 Theory
2.1 Early stage financing
In this chapter, financing options are discussed. Quite a few of the options are in reality not available for an early stage company. Early stage companies usually need to find multiple sources of financing. The founder’s equity comes from their own financial resources, and some may obtain further finance from their personal networks. Beyond that, governmental start-up funds or loans may be applicable; these can cover some of the costs. However, to be able to grow from an early stage, or funnel finance, into a costly research project for a new concept, entrepreneurs will typically have to find external funding. In exchange for that funding, they will have to yield equity stakes in the firm, giving up ownership over a portion of the firm (Morrissette, 2007). The equity investments are the investor types of focus in this thesis, but other finance sources are also briefly discussed to explain their role, including equity investments normally unavailable to early stage companies.
Small and medium businesses have since the 90s been seen as a main source of economic growth in most economic developed countries. When established businesses are concerned, there are many various reasons that can explain the failure and discontinuation of the venture.
Reasons can be such as use of an improper business model, lack of a mission and strategic vision, poor product offerings, no differentiation or the inability to adapt to a new
social/technological/economic environment. But when it comes to the reasons why new entrepreneurial ventures don't ever get the chance to develop, or pass beyond the stage of being an early stage company, this is largely a matter of financing being absent (Manchanda, 2014). At such early stages, businesses require access to external capital sources to achieve the first milestones such as building a prototype, enact marketing campaigns or expand the business. Therefore a big proportion of businesses cannot make it beyond early stages of business development, because they do not have access to external capital (Bachler and Guild, 1996). Entrepreneurial ventures that are in the early stage usually have different financial needs when compared to established businesses. The business still suffers from liability of newness and the early stage is usually characterised by needs in capital that will be used for the product development, applications for patents and trademarks, market analysis, creating prototypes and setting up business partner relationships. Usually at this point, businesses that are still in the early stage, have not started with any operational and commercial processes and the main focus is on how and where to turn to find the required
4 capital needed to transform the business idea into a successful commercial company (Bachler and Guild, 1996).
A common characteristic of the ventures that are in the early stage just mentioned is the lack of tangible resources. Typically, business concepts in this stage begin their adventure with the entrepreneur's idea and confidence on it, the team and finally business model if it exists. With only such intangible assets, the entrepreneurs seek to find external capital in various formal financial institutions but because of the lack of tangible collateral, many financial institutions (especially lending institutions such as banks) do not want to take the risk to finance a
venture without assets or a commercial history or brand. The next choice that comes to an entrepreneur's mind is seeking venture capital; however, unfortunately the majority of venture capitalists are only willing to invest in ventures in a later stage of development, thus not in the early phase (Roberts, 1991).
Financing methods that fit with the early stage of ventures were the main focus in this study;
these are angel investors, crowdfunding, and as of 2017, initial coin offerings (ICO).
2.2 Early stage financing options
2.2.1 Angel Investors
Angel investors are sometimes called informal investors. The definition of angel investors is that they are wealthy individuals that offer funds for an early stage company (Morrissette, 2007). Angel investors themselves tend to exhibit behavioural traits that shape their availability to prospect entrepreneurs. They tend to invest in their domains of experience, known as industry angels, which means that they invest in what they know and have a
network within. In doing so, they provide an important source of knowledge and expertise for the entrepreneur they fund, and they tend to be involved with the project either through meeting with the entrepreneur on a regular basis or working there. Angels are also not just a phenomenon limited to entrepreneurial clusters or densely urbanized areas; they exist everywhere. Their investment criteria’s are based upon the perceived qualities of the entrepreneur and their idea. Entrepreneurs are sourced by the angel’s contacts and business associates. Angels also tend to invest geographically closer, statistics presented show that the majority of angels tend to invest within a radius of 50 miles, despite a portion of studied angels claiming to have no geographic limitations (Morrissette, 2007). The typical investment
5 amount from an angel investor on an early stage is between 25000$-250000$ with an average of 50000$-75000$. When it comes to the investment process, angels tend to invest as a group, finding their prospect entrepreneurs together through their networks. This is due to the
traditional angel investing way of using networks. Angels will recommend and discuss prospect companies to invest with other angels in their network, minimizing risk and increasing sources of expertise for the entrepreneur. There are lots of different types of angels, such as lead dogs, who bring other angels into the company; dark angels, who want to take over the company; archangels, which refers to the most experienced angels with a lot of investments under their belt. These are just a few examples of many (Morrissette, 2007).
This description of investment angels may be changing with new platforms brought by the Internet; e.g. sites matching angels with entrepreneurs have emerged, potentially lowering geographical and networking barriers. However, looking at the largest angel investor network online it is clear that steps have been taken to maintain traditional features of angel investing.
Angelsden.com was created in 2007, according to the website due to the founder’s
dissatisfaction with how hard it was to find early financing for early stage companies. They noted that the most successful companies not only benefited from the funding provided, but just as much the expertise and connections the investor brought to the table. Thus, before opening up an early stage company to angel investment on their website, a lead investor is required to ensure that part of the angel investor bargain is fulfilled. Prior to this, a selection process is added on by the site. The site notes that “Only a few of the hundreds of businesses we talk to each month get chosen to pitch. They must have inspiring teams, scalable business models and valuations that make sense. Many come recommended by the network of
accelerators, incubators and investors built up since 2007.” Measures are taken to build relations with investors, which for instance includes that new investors are contacted upon registration to learn about them (Angelsden.com Latest retrieved 6 March, 2018). This clearly shows, that despite being taken to the web, the angel investing network conducted online this far maintains the advantages and disadvantages of angel investing compared to crowdfunding and ICOs.
The entrepreneur’s choice of angel investing as a source of finance is likely to affect the behavioural dynamics of a venture. Collewaert (2012) states that angel investors are likely to see it as their role to probe their entrepreneurial partners and question the venture, to help the entrepreneur formalize a vision and plans for the firm. While potentially beneficial, this may
6 also have consequences to the self-confidence and commitment of the entrepreneur. Distrust between the partners may result in the entrepreneur feeling discouraged, which could result in a negative outcome for the venture. The entrepreneur is likely to feel to a strong sense of commitment and ownership over the firm based on emotional attachment, to a point which investors might not. Criticism or disagreements over which direction the firm should take can, because of the different perspectives, result in decreased commitment from the
entrepreneur’s side. In extreme cases, the founder may begin to feel that the angel investors are working against them. Different perspectives on the discussions held may thus result in very negative effects for the founder-investor relationship and the firm as a whole
(Collewaert, 2012).
2.2.2 Crowdfunding
With crowdfunding, the possibility of obtaining financing online has become possible. With a plethora of platforms, many different types of crowdfunding have emerged, of which many share common features. Many platforms have the concept of all-or-nothing; if a crowdfund fails to attract enough finance required, the money attributed to the crowdfund will be refunded to the investors. This forces the entrepreneur to make a careful consideration into how much financing is actually required. A too high crowdfund goal is unlikely to be reached, while a too low goal will not give sufficient funding (Hornuf and Schwienbacher, 2016).
A specific type of crowdfunding relevant to early stage crowdfunds is crowd investing, sometimes referred to as equity based crowdfunding. Before the Internet emerged, the transaction costs were too high for small amounts of money to be sent in return for small amounts of equity. Similarly in the cases of where the crowdfunding seeks financing without financial incentives, known as donation crowdfunding, or reward crowdfunding, in which investors sending a certain amount are given a coupon to be exchanged for the product in the future. There is also loan crowdfunding, to be repaid at a later time. Crowdfunding relies upon mass marketing skills, presentation of an interesting product or service. This means that crowdfunds need to market themselves to the end-users rather than traditional investors, which results in that crowdfunding also functions as a vehicle for market testing and gauging the potential interest (Hornuf and Schwienbacher, 2016).
7 The inherent differences between angel investors and crowdfunding investors have led to the rise of a new type of platform, MyMicroInvest, trying to merge the two investor types together and have them use their combined knowledge to make informed decisions. The two investor types may be able to gain information and perspectives from each other. The wisdom of the crowd can benefit the angel investors, and the angel investors can provide contracting skills and monitoring abilities to the early stage companies (Hornuf and Schwienbacher, 2016).
There are negative implications for entrepreneurs when it comes to usage of crowdfunding as a financing vehicle. The asymmetry of power and information between the entrepreneur and crowdfunding investors mean that once the crowdfund has succeeded and the capital has been received by the entrepreneur, the investors have very little control over how the funds are used. The crowdfunding investors have plenty of examples to support their wariness of scams. But a crowdfunded venture may also fail due to financial inefficiency with the funds acquired. The money might be used for operational expenses, such as founder wages, rather than being infused to develop the proposed product. Crowd interaction can get heated if a crowdfunding campaign does not deliver on its promises, and as a result there is the risk of global individual defamation. Crowdfunding sites are in that regard similar to stock
exchanges; their reputation as a platform is reliant on the quality of the crowdfunds available on their websites, and for better or for worse the owners seek to maintain their sites.
Platforms set up rules that dictate which crowdfunding types are allowed, and banish infamous wrongdoers. The platforms filtering of crowdfunds, or lack thereof, shapes the reputation of the platform as a whole (Lehner et al. 2015). A downside with crowdfunding is that crowdfunding investors are prone to groupthink and herd behaviour, providing their funding to ventures because other peers do, which may result in that the best ventures are not funded in favour of popular ones (Hornuf and Schwienbacher, 2016).
Equity based crowdfunding is specific in the sense that it creates a necessity for security based on the legality of the equity yielded by equity crowdfunds. Jurisdictions are changed and adapting to the fact as a response to the emergence of equity based crowdfunding. To function and expand equity crowdfunding across multiple countries requires accordance with the law in all the countries of operation. In the US, the JOBS act has made equity
crowdfunding available to non-accredited investors. While laws may vary between states in the US, the laws in Europe forces platforms to adapt to multiple laws, often in different
8 languages if they wish to operate within multiple European countries. Since this also places limits upon the financial possibilities of entrepreneurs using the platforms, it is possible that founders will begin to seek financing within crowdfunding domains in greater jurisdictions, such as the US, unless smaller congregations of jurisdictions can consolidate to enable multi- lingual crowdfunding sites (Hornuf and Schmitt, 2016). A difference between equity based crowdfunds and ICOs is that the equity yielded by a crowdfunding campaign is highly illiquid until the company is on a securities exchange or bought by another company (Investingzone, latest retrieved 7 March 2018).
2.2.3 Initial coin offerings
In 2008 Satoshi Nakamoto published his famous paper about a purely peer-to-peer version of electronic currency called Bitcoin. The main aspect of his new digital currency system that would in later years become a subject for economic and political debate, is the lack of need for a trusted third-party institution in order for the transactions to take place (Nakamoto, 2008). To create this digital transaction system without the need of a trusted third party, or in other words a decentralized system, the transaction payments are based on a cryptographic coded system. Hence the term cryptocurrency was created. To achieve this, Nakamoto constructed and described in his paper the underlying technology/platform that allows systems such as cryptocurrencies to exist, namely blockchain. Although blockchain technology and cryptocurrencies have existed in a few years, the adoption level has only recently seen a rise. Figure 2 shows the value of Bitcoin in USD in the last year which also shows that the sudden increase and hype around Bitcoin began in the late 2016 creating an increase in its demand and thus an increase in its value (Luther and White, 2014).
9 Figure 2: Bitcoin price over the last two years. Source: Coindesk
In 2012 J.R. Willet invented the Initial Coin Offering (ICO) funding method and did the first ICO in 2013 with a publication of his offer called "The Second Bitcoin Whitepaper" where he explained the business model and investing process. The first ICO managed to raise around 5000 Bitcoins from private investors worth about US$500,000 at the time. As the blockchain technology and its capabilities have become more and more widespread and adopted, a new ecosystem for applications that exploit the tools and utilities of blockchain has emerged, often referred as DAPPs (decentralized applications). With an increased interest in decentralized systems and networks, early stage companies within the DAPPs ecosystem have started to adopt Willet's new and innovative fundraising method which exploded in 2017 (Yadav, 2017). Figure 3 shows the amount of capital raised per month during 2017.
10 Figure 3: USD raised by ICOs
The ICO method is very similar to crowdfunding, both in the aspect that the funds raised are coming from many small sized individual investors, and the fact that many of its projects are being funded in the early phase. They key points that makes ICOs different from
crowdfunding are the regulations, the way capital is being raised, and lastly the amount of capital raised (Yadav, 2017). An example showing the difference between crowdfunding and ICOs in capital being raised, is to compare the most successful case in both cases. Paradox Interactive, a video game company, raised $11.8 million in an equity crowdfunding campaign (Mahmood, 2016) while Tezos, blockchain-based company raised $232 million (Barzilay, 2017). Although the intention of this paper is not to go deep on the technicalities and
functions of an ICO, it is important to mention how the money is being raised. A venture that wants to raise money through an ICO, creates a digital asset called Tokens or Altcoins (coins) which have customisable functionality. Examples of different usability of the tokens and coins include: exclusive product or service use, voting rights, contribution to value-adding chain for the network or market, creation of new products and services, ownership (real or a
11 proxy of the value) and many more functions. To buy the tokens or altcoins, investors use cryptocurrencies that are mostly common and accepted such as Bitcoin or Ethereum. In that way, ICOs are functioning in a relatively unregulated space which is unbound by national laws or any regulations regarding the economic aspects of the transactions being held. As a result of the low legal requirements and barriers, entrepreneurs can design any token sale model they wish such as having capped-uncapped number of tokens, capped-uncapped capital (Vitalik.ca, 2017). Finally, another important fact of ICOs is that the tokens/coins that were bought in a token crowdsale can be traded immediately on secondary online coin exchanges and investors are not bound in lock-in periods as it is the case in many equity crowdfunding projects. This specific aspect has made ICOs a method that attracts investors who are seeking short term profit. In 2017, token sales became a significant part of the cryptosphere. The following numerical data of ICOs Descriptive Statistics visualizes this phenomenon (Banerjee et. al. 2018):
· USD Raised: 5.59 billion
· Number of ICOs: 913
· Number of successful ICOs: 435
· Average capital raised in USD: 12.7 million
Of the 478 ICOs that were unsuccessful, 131 of those projects did not meet their minimum threshold resulting at a failed coin offering and a refund to the investors. The rest 347 projects did not report any results of their ICO sales and disappeared after a while (Banerjee et. al. 2018). This is one of the negative effects of the fact that ICOs are unregulated,
therefore attracting malicious projects who want to take advantage of the hype around the phenomenon.
As shown in the statistics, ICOs are connected with the phenomenon of raising a lot of money for a project that is in its initial phase. As Yadav (2017) puts it, ICOs are considered in the current market the most effective way to raise capital quickly for a project that is in an initial stage. As the scene of ICOs is unregulated and there is no proper due-diligence, projects can start raising capital very early; some of them have succeeded to raise far more capital than they required (Yadav, 2017). This makes the ICO method interesting for this study, which focuses on the entrepreneurial behaviour after receiving early-stage financing.
12 Another term and procedure regarding ICOs, is the so called pre-ICO or ICO Pre Sale. This is a token sale campaign that occurs before the official ICO, and the cap target is usually lower than of the official ICO. The main reason why companies choose to run a pre-ICO crowdsale is to gather funds that will enable them to create marketing campaigns and advertise their official ICO (Icowatchlist.com/presale, latest retrieved 27/4/2018).
As a final note regarding the ICO phenomenon, 2017 was the year of cryptocurrencies and ICOs. During the collection of empirical data for this thesis, the authors discussed with a CEO having an ICO during the peak of the hype, or as he said: “a silly period for ICO”. This means that during the last months of 2017, the market of cryptocurrencies was very unstable and full of short-term profit seekers.
2.3 Motivations for chosen financing types
The reason why the authors decided to focus this thesis on those three different methods of financing, has mainly to do with two reasons. First, the focus is on companies in the
relatively early stage, in order to make comparisons between the findings more valid. All of the respondents are in a relatively early stage, with most being just a few years old, with the eldest firm founded in 2009. The dynamics of a firm at advanced stages is very different from that of an early stage and thus it is probable that the effects to entrepreneurial behaviour would be different. Secondly, due to the early stage focus, a focus on financing methods available to early stage firms is necessitated. Lastly, there are some strong differences and similarities between those three methods that could make the comparison interesting.
Differences between the financing types with their different incentive structures and implications could incur different behavioural changes. The basic qualities of the three methods as summarized below.
ICOs
• Uniquely early access to capital (white paper required only)
• Limited competence/feedback, except possible equity votes
• If successful, excessive amounts of capital are possible. “Investor frenzy”
• Requires mass marketing skills
• ICO tokens are from the beginning buyable and sellable on the market
13 Angel investors
• Early access to capital
• Competence/feedback
• Amount of capital depends on investor willingness
• Requires contacts
• Financing yielded is more likely to incorporate performance driving methods like staged financing
Crowdfunding
• Early access to capital
• Limited Competence/feedback, except possible equity votes
• If successful, excessive amounts of capital are possible. “Investor frenzy”
• Requires mass marketing skills
• Requires passing crowdfunding sites requirements
ICOs have qualities that tangent both the qualities of crowdfunding and angel investors.
Based upon these differences, different expectations for the behaviour can be expected in entrepreneurial behaviour based on the result. If an entrepreneur doing an ICO or crowdfund manages to attract a lot of finance, to the point of excessive finance, the entrepreneur may miss important lessons in thriftiness necessary to operate a firm efficiently, which could cause the entrepreneur to use the financing inefficiently. The reputation of a crowdfunding platform functions like a stock exchange: The reputation of the platforms relies upon the quality and success of the firms listed/hosted on the platforms. Crowdfunding platforms thus have incentive to restrict the fund supply so that the investment inflow to crowdfunds does not become so spread that funds are unable to stand out enough to attract enough financing on an individual level. ICOs does not rely upon this platform system with regulating actors above; anyone with the cryptocurrency savvy can launch an ICO and try to attract financing.
Crowdfunding platforms themselves usually host features to differentiate them from other crowdfunding platforms, e.g. all-or-nothing, requiring the financing goals to be fulfilled, or the financing is returned to the investors. These different features affect the financing landscape.
14 Angel investors generally provide important benefits to a firm beyond financing delivered, they are commonly experienced business people in the relevant industry at hand. When an angel investor joins a new firm, the dynamic they bring with them is thus different from firms financed by ICOs and crowdfunds. The angel becomes a person of importance for the firm, usually tasked with coaching and guiding the entrepreneur. The relationship with the angel can change the entrepreneur’s perception, if the entrepreneur feels the angel is asking too tough questions when times are troubling the firm.
2.4 Other options for financing
Venture Capital
Venture Capitals will typically not invest until a company is several years old (Morrissette, 2007).
Initial Public Offering
IPO is the traditional stock market method for obtaining financing; however, this is unavailable for early stage companies. This is because stock exchanges have criteria for establishing a firm on their stock exchange. Similar to crowdfunding sites, the quality and reputation of the stock exchange depends upon its ability to present the best companies on the exchange and filter out companies on the path to bankruptcy (Ritter & Welch 2002).
Government Funds
Governmental programmes to encourage entrepreneurial behaviour can sometimes, if applicable, constitute a part of the financing for an early stage company. More so than
hosting incubators to match entrepreneurs with investors, governments sometimes offer direct financing or loans directed towards prospect entrepreneurs, and can, if applicable, serve as a finance source. In the UK, the government offers loans up to £25000 with a fixed interest rate of 6%. The loan can have a repayment period over as long as five years but has no early repayment fee (UK government, latest retrieved 2 March 2018).
15 Debt
Commercial banks will rarely lend capital to start-up companies. However, in addition to the founders own capital, founders will often have to infuse money to the venture via home equity loans and credit card debt (Morrissette, 2007).
FFF
The abbreviation FFF refers to the founder him/herself, family and friends, which will likely constitute an important part of early stage funding for an early stage company (Morrissette, 2007).
Incubators
Incubators are hosted by various institutions with the purpose of enhancing entrepreneurial activity, competitiveness of the local region. Along with networking and expertise provision, these incubators sometimes also have investment schemes into promising early stage
companies (Siu W., 2002).
2.5 Entrepreneurial behaviour
Rotefoss & Kolvereid (2005) defines entrepreneurial behaviour as actions that implement a new business. When it comes to entrepreneurial behaviour, there are certain qualities many new entrepreneurs tend to exhibit. Particularly common traits are overconfidence and self- belief in the founder’s knowledge (Koellinger et al. 2007). The entrepreneur’s cognitive biases is one of the most important factors explaining entrepreneurial behaviour.
Overconfidence and optimism on the founders part helps firm creation, but unfortunately also contributes to firm failure. In addition, cognitive biases shape organisational factors such as propensity to delegate, opportunity orientation and financial orientation. Willingness to trust is linked to optimism, and distrust is linked with a need to control, which means that the founder places an emphasis on financial control and orientation. Trust is correlated with a low perceived outcome risk, while the opposite results in high perceived outcome risk (Gudmundsson et al. 2013). Receiving negative feedback increases probability of the entrepreneur abandoning the venture by about 26 percent as well as reducing the probability of survival by 9 percent (Howell, 2017). When it comes to the study of entrepreneurial theory, there have been criticism over a general selection bias on successful firms and missing data on failed ventures (Gartner et al. 2010). In this study, however, the preferred
16 cases have a successful financing round, to be able to examine how the entrepreneur’s
behaviour might change due to the financing acquired.
Entrepreneurial behaviour is linked to personality traits that are connected to nomenclature from the psychology field. The big five personality traits have been examined and compared in a number of cases in a study by Zhao et al. (2010). These five traits are conscientiousness, openness to experience, emotional stability, extraversion, and agreeableness. The study also included risk propensity as a category. The study concluded that some of the personality traits correlate well with entrepreneurial intention, as well as subsequent performance. Of the five personality traits, openness to experience and conscientiousness were the most important factors in determining both intention and performance. Conscientiousness refers to diligence, working hard, self-discipline, and openness to experience refers to appreciation for unusual, new or unconventional ideas as well as creativity, and interest in arts. That means in other words that an entrepreneur that have openness to experience is more likely to go through the process of evaluating new ideas for the firm such as new product, strategy, collaborations and other ideas. Risk propensity resulted in a higher entrepreneurial intention but not in higher performance after becoming entrepreneurs. The performance measurement in Zhao’s study was divided into three different categories, these three being performance, growth and profitability. Of the five characteristics, agreeableness seems to have little influence on both intention and performance. Extraversion has some effect but it is quite limited compared to openness to experience, conscientiousness and emotional stability. However, the study also notes that character traits only account for about 10% of the variance in firm performance.
Extrovert risk-takers are not necessarily the only successful entrepreneurs and competencies that are associated with certain personality traits, such as social competence, can be practiced and learned (Zhao et al. 2010).
2.6 Performance
The output and survival of a firm is dictated by many factors and have been tested in
academic literature. The correlations between factors such as financial capital and the human capital of the founders have been compared to growth and survival. Level of capitalisation contributes to marginal growth and survival. However, it can also provide a lot of other effects. Having extra capital allows the company to have a buffer in case of shocks; time can be bought in tough situations and capital-intensive strategies can be pursued, which increase
17 competitiveness and barriers to entry. The level of capitalisation thus provides a host of beneficial effects which correlate with performance. Lack of surplus capital can cause a lack of flexibility for the firm and make it susceptible to insolvency issues (Cooper et al. 1994).
A problem connected to performance and financing is adverse selection, in which after financing is obtained, the incentives for the entrepreneur to perform are lowered; as a result, the entrepreneur may not exert as much effort as promised. To combat this problem, angel investors can include covenants and staged financing schemes within their contracts. This is not the case with equity crowdfunds, while crowdfunds sometimes conduct multiple
crowdfunding rounds the rounds are not conditional to any success benchmarks connected to the firm. There is an exception to this though, the platform Companisto created a system in which two-thirds of an equity crowdfund is yielded to the founders, while the rest is withheld over a period of six months. The investors can then vote whether to yield the capital to the founders or return it to the investors, which creates an incentive for founders to perform.
(Hornuf and Schmitt, 2016). The same problem conceivably exists with ICOs; a lack of financial reward incentive for fulfilling financial and operational objectives. Regarding financial efficiency, thrifty usage of the start-ups resources, there have been observations made to gauge the thriftiness of entrepreneurs. Entrepreneurs who were uncertain about finding financing, and their competition, were more likely to be successful if they planned early in their start-up process (Gartner et al. 2010).
2.7 Literature Gap
Plenty of academic literature exists providing insights into how personal factors exist and affect entrepreneurial behaviour. Certain behavioural traits could be considered prerequisites for a person to even become an entrepreneur, such as behaviours that are linked with
entrepreneurial intention. In addition, certain personality traits and associated behaviour are shown to be correlated with an increase in performance or lack thereof.
In spite of all the extensive research done on entrepreneurial behaviour, as far as the authors could find, there is very limited research available on how entrepreneurial behaviour could be affected at the moment of financing or other important events within a firm's life-cycle. Since financing success could alter the feelings and state of mind on the entrepreneur, it follows that entrepreneurial behaviour could change as a result. The authors would argue that there is
18 both academic and practical relevance to interviewing entrepreneurs and attempting to
evaluate potential consequences to performance due to the behavioural change at the moment of financing, or lack thereof. Further understanding about changes to entrepreneurial
behaviour connected to financing can provide insights into changes to a firm's performance.
If performance went below or above the expectations, changes to behaviour brought by the financing moment could function as an exposition for why the outcome occurred.
2.8 Constructs
Having gone through the process of setting the theoretical background, it is now necessary to extract the constructs that best fit the research topic. These constructs will be the main focus when the authors gather the empirical data needed for the analysis. The constructs chosen are presented below and are divided in three categories. The first and most important categories are change constructs. The constructs that are in this category are variables that can be
affected at the moment of financing and have therefore a dynamic nature. The authors want to make it clear here that from now on in this thesis, whenever those constructs are being used, it is about the level of change of the construct after financing. The second category includes the control variables of entrepreneurial experience and emotional stability. The first one was chosen to determine if the change constructs had any relation the the previous entrepreneurial experience and the latter was chosen following Zhao’s study (2010) and to check the possible implication this variable may have to the change constructs. Finally, outcome variables is the third category with variables that indicate the overall effectivity and performance rates of the firm.
Change constructs:
• Confidence
• Economic efficiency
• Conscientiousness
• Openness to experience
• Risk propensity
Control variables:
• Emotional stability
• Entrepreneurial experience
19 Outcome variables:
• Momentum
• Performance
Confidence is used to check for changes to the feelings of confidence for the entrepreneur in their firm. Obtaining financing is a crucial point for many early stage companies and can make or break a firm. It follows that a successful financing round could cause a significant confidence boost, to the point of overconfidence in the firm’s future. Economic efficiency refers to efficient usage of the entrepreneur’s financial resources, or lack thereof. As a result of the financing moment, a company would thus gain a significant surplus of financial resources in the time ahead of the financing moment, potentially causing inefficient usage of the capital. Conscientiousness refers to the psychological tendency of an individual to work hard. This factor could change when an entrepreneur obtains financing. This could be driven by feelings of external pressure, or from within the entrepreneur. The entrepreneur could also feel more calm and relaxed about the firm, due to the financing obtained, lowering
conscientiousness. Openness to experience could also change; financing makes the
entrepreneur feel that anything is possible and new ideas can be explored, or a need to focus on the primary goals of the business as a result of financing. External financing may mean that the entrepreneurs risk appetite heightens or lowers, depending on how the entrepreneur feels about the new situation after the financing.
Emotional stability was in this study used as a control variable rather than as a change
construct, due to low change expectations but still examined in order to find possible patterns with different levels of worrying and the other factors. Another control factor is experience, previous entrepreneurial experience could mean that changes in the entrepreneurial behaviour are not as high due to having undergone similar experiences before, avoiding entrepreneurial mistakes. The psychological traits agreeableness and extraversion were not included due to not having a high established correlation with neither entrepreneurial performance nor intention (Zhao et al. 2010).
Momentum was an emergent construct added after the first interview, where the respondent described the importance of maintaining momentum as a new company approaches launch
20 and growth. This is both a performance related phenomenon, growth due to momentum as a result of financing, attention from the public, but also a factor that behoves conscientiousness from the entrepreneur. Performance refers in the analysis to an estimation of the firm’s respective performance based on their responses to performance related questions.
Figure 4 below shows how the constructs revolves around the line of reasoning introduced by Figure 1. The type of financing pursued, and the financing in itself constitutes the most important input construct which can induce behavioural implications for the entrepreneurs, due to the immense effect obtaining financing will have for the firm. Previous entrepreneurial experience also adds important background data, potentially affecting which behavioural patterns emerge after financing.
Same thing applies for the entrepreneur’s general emotional personal traits, if the entrepreneur is prone to worry about things or not etc. The financing moment happens, and the entrepreneurs are probed for answers on how their behaviour changed or did not change. The constructs are used to guide and direct questions on how their entrepreneurial behaviour changed, refer to the interview guide in the appendix. The entrepreneurs are also asked how their overall performance have been.
Figure 4: Expansion of Figure 1 with the implementation of the constructs
2.9 Summary
As this chapter brings light to, the method of financing affects the firms, but also potentially affects the behaviour of the entrepreneur. Different financing sources result in different implications for the founders of a firm. Having angel investor to guide the entrepreneur within an early stage company affects both the entrepreneur and most likely, the performance of the firm. With angel investors, the relational dynamics of the founder with the investors are affected. How this will affect the firm depends on both the angels and the founder’s behaviour. Early stage companies financing by an ICO or crowdfunding will have no such expertise to guide their financial decisions. The literature does not cover how behaviour is affected at the moment of financing. Thus the goal and question of this thesis is to answer
Input Behavioural changes Performance
• Financing type
• Entrepreneurial experience
• Emotional stability
• Confidence
• Conscientiousness
• Risk propensity
• Openness to experience
• Economic efficiency
• Performance
• Momentum
21 how the performance of an early stage company is affected by the entrepreneurs change in behaviour; does financing type matter?
In doing so, the goal is also to, with the theory as a groundwork, account for performance lowering or enhancing effects that are direct results related to the financing activity. The theory provides support for that performance is affected in a multitude of beneficial ways by virtue of having excess buffer capital. Expertise and guidance provided by angel investors boost performance and helps manage the phases an early stage venture will pass through, but can also go awry if the relationship fails. However, it is arguable that the moment of
financing also provides a vehicle for change to an entrepreneur’s behaviour. Emotionally driven changes could cause behavioural changes to the founder and team operating an early venture. With financing success achieved, the entrepreneur and team members may feel strong optimism about the future of the venture, or pressure to perform in relation to new expectations and goals. With an identified literature gap, it becomes an important part of the empirical data to bring insight into how the behaviour is affected at the moment of financing with following potential performance implications as illustrated in Figure 4.
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3 Methodology
3.1 Research questions
How does financing type change the entrepreneurial behaviour?
How do changes in the entrepreneurial behaviour related to the financing moment affect the performance?
3.2 Research strategy
To understand the linkage and impact different methods of financing can have on
entrepreneurial behaviour, such as economic efficiency, decision making, confidence, and as a result an impact on the overall performance of the venture, a theoretical approach was firstly taken regarding the understanding through literature review of the different aspects of the entrepreneurial behaviour and venture performance. The same approach was taken regarding the understanding for the three different types of financing method that this thesis will examine. Having set up the theoretical framework in which the authors will work within, a method strategy must be chosen that fits in helping answering the research questions. Based on the thesis purpose and the nature of the research questions, a qualitative strategy was chosen. The reason of choosing a qualitative approach was because as Bryman and Bell (2011) mention, a qualitative research method would allow the authors to gather and analyse data that are concerned with words and behaviour rather than numerical data as it is the case with a quantitative research approach. Furthermore, again according to Bryman and Bell (2011), a qualitative research approach will allow the authors to have deeper insights on the behavioural aspects of the participants and allow them to perceive contexts and situations of entrepreneurial behaviour and venture performance in a wider perspective. As such, the epistemological position of this thesis can be described as interpretivist. In a qualitative research with an interpretivist approach the focus is on understanding the social environment through the analysis of the interpretation of the subjects that are participating and analysed in the research. Thus, it is clear that the relationship between theory and research is described by a dynamic bond, meaning that the authors first based their research on existing theory in order to start their research and analysis with the intention to test their hypotheses and further develop the theoretical framework that this thesis was built upon. Finally, the mode of
reasoning used in this thesis is best described by an inductive reasoning. As it is mentioned by Bryman and Bell (2011), unlike deductive approach, an inductive approach uses logical
23 methods and inferences to create and build theories about the world. In other words,
generalizable assumptions are formed out of observations and analysis of the empirical data collected.
3.3 Research purpose
A research can have three different purposes or a combination of them. A research can have an explorative, a descriptive or an explanatory purpose. The combination of the research objectives with the level of existing theory prior to the research indicates which type of research is needed (Saunders, 2012).
The objective of this thesis is to research and observe how certain aspects of entrepreneurial behaviour are being affected by different types of fundraising methods and how those changes in behaviour may, or may not, have an effect on the overall performance of the venture. The existing literature doesn’t provide enough depth in this linkage between fundraising and behavioural characteristics of entrepreneurs and only some analogies between capital/money and psychological aspects can be found in the literature. Therefore, the purpose of this thesis will have an explorative character where the main objective will be the identification in changes of the psychological aspects of the entrepreneurs. Since the literature can only provide the authors will analogies of the subject in research, there is a need to analyse this existing information and make similar analogies with the conclusions and findings of this research. Due to the fact that this thesis needs an analysis of both existing theories and the findings of the research, this study is of a descriptive and an explorative purpose.
The goal of this study is to obtain first-hand response on how entrepreneur’s behaviour is affected by the type of financing they manage to acquire at the early stage of venture creation and development. The proposition here is to find early stage companies that managed to acquire financing through those three different methods: angel investors, initial coin offerings and crowdfunding, and find out if their behaviour changed during and after they received their financing. This will be done by asking interview respondents about their start-up and how it affected their behaviour. In the case of early stage companies with guidance like an angel investor, indirect questions that gauge the relationship between the entrepreneur and the angel have to be used.
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The study is set to focus on entrepreneurial behaviour at the early stage in a venture. When an entrepreneur manages to acquire financing, there may be consequences that may change some behavioural aspects of the entrepreneur such as the levels of confidence, motivation, economic efficiency and more. Those potential changes may have an impact on the decision making of the entrepreneur and as a result an impact on the firm itself. It is also likely that techniques employed by angel investors, such as staged financing, which can improve financial efficiency, are not available or used by crowdfunding/ICOs.
3.4 Research Design
To answer the proposed research questions, a comparative case study was conducted.
Interviews were done with companies/entrepreneurs who had financing rounds early in their firm’s lifespan. In order to better capture the behavioural aspects of the entrepreneurs after the funding was completed, the authors were looking for cases that have recently had a successful fundraising campaign so that the memories and emotions of the process would be as vivid as possible. Due to response collection rates, finding similar cultural backgrounds and corporate culture was not an option.
Since multiple case studies were done, semi-structured interviews were used to gather data, which increases the possibility of making meaningful comparisons between each case
(Bryman & Bell, 2012, s. 480). Because the authors were searching for elements of change in the interviewees’ behaviour based on the constructs that were generated from the literature reviews, the interviewees were encouraged to describe the process, feelings and experience of financing in a story-telling manner.
3.5 Collection of empirical data
The authors of this thesis had decided since the beginning of the writing process to have two interviews for each of the three categories of financing methods in research, i.e. a total of six different interviews from six different companies that were in an early stage and have
received funding through an ICO, crowdfunding campaign or angel investors. The reason why the authors have chosen to have two interviews from each fundraising methods is mainly because of time constraints. When it comes to the selection of the companies that the authors wanted to interview, it was done with an unbiased perspective, meaning that the authors
